OECD trims world growth forecast, expects Fed rate cut

AGENCIESNov 29, 2006, 12.59am IST

PARIS: The Organisation for Economic Co-operation and Development (OECD) said the world economic expansion will fade in 2007 to its weakest in four years, dragged down by a US slowdown that will force the Federal Reserve to cut interest rates. Growth among the group's 30 members will cool to 2.5% in 2007 from 3.2% estimated for this year and the weakest since 2% in 2003, the group said in its semi-annual economic outlook on Tuesday. The 2007 forecast was below the 2.9% forecast in May.

Expansion in Europe and emerging economies will cushion the slowdown in the US and Japan, the group forecast. Projected growth in the OECD, which excludes China and India, will be about half the 2007 global expansion of 4.9% predicted in September by the International Monetary Fund. "We're not expecting the apple cart to be overturned," OECD chief economist Jean-Philippe Cotis told reporters in Paris. "Rather than a major slowdown, what the world economy may be facing is a rebalancing of growth." Inflation, as measured by the GDP deflator, was predicted at 2.2% next year, the same as this year and above May's 2.1% forecast.

The OECD predicted growth in the US will slow to 2.4% next year from 3.3% in 2006 and the 3.1% it predicted in May, as its housing market weakens. Home building has "further to fall," it said. While inflation will require the Fed to keep its benchmark interest rate "restrictive" for some time, having lifted it 17 times to a five-high of 5.25%, the OECD said rates could be cut in late 2007 if price pressures ease. The jobless level will reach 4.8% next year, the OECD said, while inflation will slow to 2.6% from 2.9%.

The OECD predicted the economy of the dozen nations sharing the euro would grow 2.2% next year. It estimates expansion of 2.6% this year and 2.3% in 2008. Demand is accelerating in Europe as unemployment falls. After five interest-rate hikes in the past year to 3.25%, the European Central Bank will have to use some "moderate additional tightening" as "insurance against the risk of inflation pressure down the line," the OECD said. Borrowing costs will reach 3.75% by the middle of next year and 4% early in 2008, the OECD's economists said. That will help push inflation to 1.9% next year.

Mr Cotis said the euro remained within its "comfort zone" and that "the moves we've seen are not alarming." The euro rose for a sixth day against the dollar on speculation the interest-rate premium for holding it will widen. The OECD said the Bank of England was unlikely to raise interest rates again after lifted its key rate this month to a five-year high of 5%. UK growth next year will match 2006's 2.6%, it said.

Household and business spending continue to support the Japanese economy, too, the OECD said. It predicted growth of 2% in each of the next two years, against this year's 2.8% and said the GDP deflator will rise 0.2% in 2007 after falling 1% this year. After increasing rates in July for the first year in six, the Bank of Japan should do so again "once a clear exit from deflation has been made," the report said. That gives the bank room to leave the main rate on hold at 0.25% until the third quarter of next year, after which it will be raised to 1% by the end of 2008, it said.

Outside the OECD, Russia, China and India remain key growth drivers. The Chinese economy is predicted to continue growing above 10% in the next two years.

"In the emerging countries, conditions are pretty buoyant," Mr Cotis said. "These growth rates are pretty strong and should support the world economy."

The OECD dedicated much of its report to analysing house prices around the world, concluding they had reached "unsustainable highs" in countries including the US, Denmark, France and Spain. While risks of a substantive home price plunge linger, the report predicted the likely softening in mortgage markets would hamper economic expansions without derailing them. "It is comforting to note that in many countries, households seem well prepared to cope with the consequence of a downtown in housing markets," the report said.

Other threats to the benign economic outlook included a "disorderly" unwinding of the US current account deficit, the report said. That could trigger currency volatility and a surge in interest rates, the OECD said. Even a smooth transition will mean a further decline in the US dollar, the report said. "It is hard to predict when it will occur and what will trigger it," it said. It also called upon governments to pare budget deficits.

The OECD describes itself as a group of "like-minded" countries committed to "a market economy and a pluralistic democracy." The group, founded in 1961 from the organisation formed to administer Marshall Plan aid after World War II, promotes dialogue among members to try to co-ordinate domestic and international policies.